Can Japan continue to buck the trend for coronavirus?
The economic damage from coronavirus (Covid-19) will likely confirm the Japanese recession. The Japanese authorities are already relaxing the few virus-related restrictions in the country, but we think that a continued rise in deaths would result in a more aggressive lockdown approach. This will prolong and deepen the recession with fiscal stimulus to help soften the blow.
Covid-19: Puzzling lack of cases
Japan was one of the first countries outside China to report a case of coronavirus. However, avoiding an explosion of cases, it has managed to stay under the radar for investors and wider commentators.
Cases of Covid-19 in Japan remain puzzlingly low at 907 (as of Tuesday 24 March) despite no widespread lockdown. Moreover, there has been no aggressive testing with Japan reported to only be using one-sixth of its capacity.
The low testing rate, of course, may explain why the number of cases continue to rise only very slowly. Arguably Prime Minister Abe also has political motivation to underreport cases enabling Japan and Japanese corporates to take centre stage in hosting the Olympics in July (now postponed to 2021).
But even so, this does not explain the modest number of deaths (31), leaving it difficult not to conclude that Japan appears to be bucking the trend with a naturally low transmission rate.
One explanation is offered by Kazuhiro Tateda, President of the Japan Association of Infectious Diseases.
“The mind-set of Japanese people, generally speaking, is to follow the government's instructions in a crisis”.
Moreover, while authorities claim they are quickly cracking down on clusters of outbreaks, some parts of Japanese culture may also have helped.
The Japanese do not shake hands and there are strong social norms around mask-wearing and hygiene. But perhaps more importantly, just over one-third of households are single person, pointing to an element of self-isolation in society.
False sense of security? We expect Japan to U-turn on lifting restrictions
Restrictions on activity seem to be getting more severe in the US and UK but Japan is clearly moving the other way. Last week, Hokkaido lifted its state of emergency and schools started getting ready to return. This seems early, as the rate of weekly cases and deaths from Covid-19 have not peaked, raising the question of whether the Japanese authorities are feeling a false sense of security.
Can the low infection rate persist? Analysis from our Data Insights team suggests that, with no major policy action from here, Japan will continue to see a rise in cases and deaths through the year. Of course, the aforementioned steady rise in deaths suggests that less action would need to be taken, relative to Europe and the US, where the virus seems to be spreading more quickly.
After the revision of a law - which took effect in 2013 - Prime Minister Abe can now declare a national state emergency. This would give the government additional power, for example, to ask residents to stay indoors. While an advisory panel also helps with this decision, so far Japanese authorities have been reluctant to do make this declaration.
Our view, which ultimately shapes the forecast and makes us highly non-consensus, is that Prime Minister Abe will make this declaration and put the nation on partial shutdown with a view to containing the virus. Of course, lockdown – now being discussed by Tokyo Governor Koike - would mark a change in policy stance. But with Prime Minister Abe now conceding that the Tokyo Olympics cannot be held this year, it seems that reality is finally setting in.
Japanese recession to be deeper and more prolonged
The outbreak of the virus could not have come at a worse time for Japan, which had already contracted 7.1% quarter-on-quarter (annualised) in the fourth quarter as Value-Added-Tax was raised.
Pre-Covid-19, we already forecast a Japanese recession. In March, schools were closed, Hokkaido enacted its state of emergency and large events were called off. This, combined with the hit from a fall in tourism and exports, should be enough to tip Japan into recession.
Our assumption of a partial lockdown in the second quarter would result in a severe contraction and, in turn, three consecutive quarters of negative economic growth for Japan.
Compared to the US and Europe, lockdown in Japan would need to be less severe, given the current low rate of transmission of the virus. However, more broadly, with other lockdowns in place across the world and signs of a second wave of Covid-19 in Asia, global trade will continue to fall. This will hit Japanese exports, supply chains and reduce corporate spending.
As in our wider global forecast, we assume that these restrictions are lifted in the third quarter as Covid-19 gets under control, resulting in a “V-shaped” recovery. Note that the “V” should be more shallow than other countries reflecting less severe lockdown.
Crucially, we assume that the policy response is sufficient for the economy not to suffer any significant long-term damage. Two Japanese specific factors support this view: labour laws are very protective of employees’ rights, so Japanese companies find it very difficult to fire staff; and Japanese corporates, no stranger to large crises, are famously cash rich.
Recently confirmed by the International Olympic Committee, we assume the Olympics is postponed by one year, which also helps to drive a recovery in 2021. More fiscal stimulus should also help; we expect another package of around 4% GDP.
On the inflation side, weak growth and also lower oil prices - which are significantly lower than our previous forecast - should keep inflation low.
In terms of risks to the view, we acknowledge that the Japanese shutdown is a strong and binary assumption. The risks to growth are likely to the upside rather than downside – unlike other developed market peers which could see lockdown for longer.
Policy response: More fiscal to come
As the central bank with the least policy ammunition left, the Bank of Japan (BoJ) has done its part to ease monetary policy, announcing more quantitative easing (QE) and therefore further expanding its balance sheet that is already larger than the country’s GDP.
Investor focus was on the equities, doubling the upper limit of annual purchases of Exchange Trade Funds (ETFs) to ¥12 trillion and limits were also raised on the purchases of real estate investment trust (REITs), commercial paper and corporate bonds.
BoJ Governor, Haruhiko Kuroda, stressed that is was still possible for interest rates to be cut further into negative territory. However, our central view is that the BoJ will be reluctant to do so and instead keep rates on hold. As central banks announce further easing in emergency meetings, the risk to this view is a surprise 10 basis point rate cut.
Reflecting concerns around corporate financing, the BoJ also announced measures to provide loans against corporate debt. This is shortly after the Japanese government announced 0.4% GDP worth of fiscal stimulus. Only one quarter of this is direct spending on measures such as subsidising parents who need to take time off work to look after children, funding for vaccine development and more test kits. Three-quarters are indirect or financing measures, such as loans to struggling Small and Medium Sized Enterprises (SMEs).
Our view is that is there is more to come. We expect an additional 4% GDP to be announced shortly, of which half should be direct spending.
We do not expect VAT to be rolled back as this would wipe out all hard work done by Japanese authorities to raise it in the first place. Direct cash handouts and subsidies are more likely but households remain cautious, so the fiscal multiplier (and thus the boost to growth) will likely be low as households opt to save.
Nonetheless, we expect the direct fiscal measures to help boost growth in the second half of the year and first half of 2021, helping Japan gain momentum ahead of the Olympics.
Unstructured Learning Time
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